CEO SUMMARY: California Attorney General Jerry Brown made a big splash last month by accusing seven lab firms of committing “massive fraud and kickbacks” under state Medicaid laws. However, he is relying on a legal theory that has not prevailed in some prior court cases involving discounted billing for laboratory testing. Nonetheless, it appears that a multi-year legal battle is now under way, with the substantial resources of the California Attorney General arrayed against the seven defendant lab companies.

HOLDING A NEWS CONFERENCE last month to announce “massive fraud and kickbacks,” California Attorney General Edmund G. Brown Jr. made it sound like the lawsuit filed against seven California labs was going to be a prosecutorial slam dunk.

On March 20, Brown joined the whistle-blower lawsuit against seven private laboratories that seeks to recover what Brown described as hundreds of millions of dollars in illegal overcharges to Medi-Cal, the state’s medicaid aid program for the poor.

In the legal action pending in San Mateo Superior Court, Brown contended that seven medical laboratory companies in California systematically overcharged the Medi-Cal program during the past 15 years. The labs did so by failing to offer Medi-Cal the lowest price for lab tests that they had negotiated with physicians, Brown said.

News of this development rippled across the laboratory industry because of the press conference conducted by California Attorney General Brown. But many lab industry veterans consider this an “old news” event, because similar claims have not prevailed in either state or federal courts.

Despite these court precedents, the whistleblower action can be considered another roll of the lawsuit dice. A decision against the seven laboratory companies named as defendants could roil the status quo that allows deeply discounted client billing and physician-markup arrangements (in states where this practice is legal), even as labs bill the Medicare and Medicaid programs at the maximum allowed by their respective fee-for-service rates.

Lab executives and pathologists should evaluate the implications of this story only after: 1) learning about the basic facts of this whistleblower case; and, 2) understanding that there are a series of court decisions over the past two decades that support the widespread practice of laboratories offering different prices to different healthcare providers, which, in some cases, may be lower prices than what these labs charge Medicare and Medicaid.

Medi-Cal Fraud & Kickbacks

Here are the facts of the case as Brown outlined them in the news conference. “In the face of declining state revenues, these [seven] medical labs have siphoned off hundreds of millions of dollars from programs intended for the most vulnerable California families,” Brown said. “Such a pattern of massive Medi-Cal fraud and kickbacks cannot be tolerated, and I will take every action the law allows to recover what is owed.”

As a whistleblower under California’s False Claims Act, the original lawsuit was filed under seal in 2005 by Chris Riedel, CEO and owner of Hunter Laboratories, Inc., in Campbell, California. While Riedel’s suit seeks to recover at least $100 million, one of Riedel’s attorneys, Joe Cotchett, of Cotchett, Pitre & McCarthy, in San Francisco, said Medi-Cal losses might total more than $1 billion.

Case Filed Under Seal

In his suit, Riedel claims Hunter Laboratories discovered that it could not compete in a significant segment of the marketplace due to price discounting practices that violate California State law. During the press conference, Brown explained that Riedel’s lawsuit details how many major laboratory competitors offered referring doctors, hospitals, and clinics far lower rates than they charged Medi-Cal. After the filing in 2005, the state Bureau of Medi-Cal Fraud and Elder Abuse investigated the allegations and Attorney General Brown intervened. The case was unsealed in March.

In the lawsuit, Riedel claimed the following labs overcharged the Medi-Cal program over 15 years:

• Quest Diagnostics Incorporated, based in Madison, New Jersey; with its affiliate Specialty Laboratories, Inc., based in Valencia, California; and four Quest affiliates.

• Laboratory Corporation of America, based in Burlington, North Carolina.

• Health Line Clinical Laboratories, Inc., now known as Taurus West, Inc., in Burbank.

Niall McCarthy, another attorney with Cotchett, Pitre & McCarthy, explained that the labs are required under California law to bill Medi-Cal the lowest prices they charge to any other purchaser under similar circumstances. “Instead, the lawsuit alleges that since at least 1995, defendants have systematically billed Medi-Cal the highest prices possible, resulting in over-payments totaling in the hundreds of millions of dollars,” McCarthy said.

“In some cases,” he continued, “the labs charged Medi-Cal rates for exams that were 500% higher than what they charged others. For example, one lab company billed Medi- Cal $8.59 to perform a blood test. It charged a person with private insurance $1.43 for the same test, amounting to a 501% rate increase [to Medi-Cal].”

Riedel was said to be on vacation last week and could not be reached for comment. In a press release, Brown quoted Riedel explaining why he filed the case. “I confirmed with the California Department of Health Care Services that these practices were illegal,” Riedel said. “We [ Hunter Laboratories] then had a choice—either join the other labs in violating the law or be unable to compete for business. We chose to suffer the financial consequence, and follow the law.”

Under California law, Brown explained, “‘…no provider shall charge [Medi-Cal] for any service…more than would have been charged for the same service…to other purchasers of comparable services…under comparable circumstances.’ Yet, the medical laboratories charged Medi-Cal as much as six times more than they charged some other providers for the same tests,” he noted.

The crux of this issue is whether those laboratories which offer deeply-discounted prices to private health insurers, hospitals, physicians, and other categories of providers, failed to offer California’s Medicaid program—known as Medi-Cal—their lowest prices, in conformance with California Medi-Cal statutes.

To a casual observer, Brown made this lawsuit look like a potential easy win for the prosecution. But the facts show a more complex legal picture. An attorney familiar with laboratory billing issues observed that earlier court cases in California have involved clinical laboratories initially believed to be acting in a fraudulent manner. However, courts have found this not to be so.

“In fact, courts have ruled in favor of laboratories that did charge different rates to different payers,” said Patric Hooper, a lawyer with Hooper, Lundy & Bookman, Inc., in Los Angeles. “The courts have ruled previously that there is nothing wrong with a laboratory giving discounts to physicians to get other business. As a matter of fact, it is probably good public policy for laboratories to give discounts because it can lower costs for Medi-Cal and HMOs.”

Prior California Case Law

For this reason, the current whistleblower lawsuit may prove to be much more complex than how Brown explained it during his announcement to the press. While making his claims about the seven defendant laboratories, Brown did not discuss earlier California case law on this issue.

“There is one case, the Physicians and Surgeons case, upon which California is relying—and it is one of several cases I litigated!” said Hooper whose firm had been involved in the whistleblower case earlier when it represented four of the defendant labs but was disqualified due to an alleged conflict, a ruling that the firm is appealing. “However, at his press conference, the attorney general ignored the more recent court of appeals decision in People v Duz-Mor Diagnostic Laboratory Inc.

“I litigated that case and many others like it,” he continued. “In the Duz-Mor case, a 1998 California Court of Appeals ruling specifically held that there is nothing wrong with a laboratory giving discounts to physicians to get other business. In that ruling the court wrote that it is probably good public policy to give discounts because it can lower costs overall. As all labs know, in California, state law prevents doctors from marking up laboratory tests.

Long-Standing Issue

“The issue has been around for more than 30 years,” he added. “Congress knows all about dual pricing, and the State of California knows about it. While I cannot talk about the specifics of this particular case at this time other than to mention what is stated in the complaint, I can confirm that the subject of dual pricing or discounts has been litigated over and over again since as early as 1983.

“When some labs give discounts, it looks bad when the attorney general says, ‘These labs are not giving Medi-Cal the same breaks they are giving to others.’

“But in Duz-Mor,” explained Hooper, “the court said, ‘In our view, the practice of negotiating discounts for the physicians’ private pay patients benefits healthcare consumers. The lower prices are by law passed on to consumers. The evidence in Duz-Mor established that if discounts were not negotiated, private pay patients would pay more for services than Medi-Cal pays for beneficiaries or than HMOs pay on behalf of their members.’ The court could find no public policy benefit in ruling against Duz-Mor.

“Because Medicare and Medi-Cal know all about dual pricing, they have historically dealt with it in rate setting,” Hooper explained. “Every time Medicare or Medi-Cal set rates, they knock down reimbursement by another X%. They say, ‘We know you labs are lowering your rates.’ So, in essence, they have chosen to deal with it through rate making and not through court cases filed under the False Claims Act. In some selected cases, state Medi-Cal auditors have also conducted audits when the circumstances of a particular case may trigger an overpayment.”

Element of “Lawsuit Lottery”

Despite the facts Hooper laid out concerning earlier case law on this legal issue, there remains an element of “lawsuit lottery” in this ongoing legal action. Plus, now that the California Attorney General has joined Riedel’s whistleblower lawsuit and unsealed the details to the public, he’s got the vast resources of the California Attorney General’s office to support this case as it moves through the courts. Expect a tough, multi-year battle with several appeals.

IN HIS PRESS CONFERENCE, California Attorney General Edmund G. Brown Jr. outlined the facts of what he called a case of fraud perpetrated against Medi-Cal. Brown stated that the seven lab firms routinely overcharged Medi-Cal by granting discounts to physicians and not giving Medi-Cal the lowest rate it negotiated with others.

For example, Brown alleged that Quest Diagnostics charged Medi-Cal $8.59 to perform a complete blood count test, while it charged some of its other customers $1.43 for the exact same test. “This is one of the most frequently requested blood tests,” he added.

Laboratory Corporation of America charged Medi-Cal $30.09 to perform a Hepatitis C Antibody screening, while it charged some of its other customers only $6.44 for the test, Brown said.

Health Line Clinical Laboratories charged Medi-Cal $12.65 to perform an HIV Antibody screening, while charging some of its other customers $1.75 for the test, he added.

“These are not isolated examples,” Brown continued. “They are part of a pattern of fraudulent overcharging and kickbacks that developed over the past decade. Here’s how it worked: The defendant labs provided deep discounts when they were being paid directly by doctors, patients, or hospitals. Prices were often below the lab’s cost and sometimes free.

“In exchange for these steep discounts, the defendants expected its customers to refer all of their other patients (where the lab was paid by an insurance company, Medicare, and Medi-Cal) to its lab,” he said. “Under California law, this amounted to providing an illegal kick-back. These sharply reduced prices, however, were not made available to Medi-Cal. Instead of charging the discounted prices, the defendants charged Medi-Cal up to six times more than the defendant charged others for the same tests. In effect, defendants shifted the costs of doing business from the private sector to Medi-Cal.

“Additionally, defendants offered their clients who paid them directly (not through Medi-Cal or other insurance) deeper and deeper discounts in order to get a larger share of the lab testing business,” Brown said. “This created an unfair playing field, and laboratories that followed the law could not effectively compete. These law-abiding companies were sometimes forced to sell or go out of business completely.”